Question

The expected return on HiLo stock is 14.85 percent while the expected return on the market is 13.9 percent. The beta of HiLo is 1.29. What is the risk-free rate of return?

A. 0.95 percent
B. 2.36 percent
C. 5.31 percent
D. 11.91 percent
E. 10.62 percent

Answer 1

The risk-free rate of return can be calculated using the formula Expected Return = Risk-Free Rate + Beta × (Expected Return of the Market - Risk-Free Rate). Using the given values, we can solve for the risk-free rate and find that it is approximately 2.43 percent. Therefore, the correct answer is B. 2.36 percent.

Step-by-step explanation:

The risk-free rate of return can be calculated using the following formula:

Expected Return = Risk-Free Rate + Beta × (Expected Return of the Market - Risk-Free Rate)

Given that the expected return on the HiLo stock is 14.85 percent, the expected return on the market is 13.9 percent, and the beta of HiLo is 1.29, we can plug in these values to solve for the risk-free rate.

14.85 = Risk-Free Rate + 1.29 × (13.9 - Risk-Free Rate)

Simplifying the equation, we get:

14.85 = Risk-Free Rate + 1.29 × 13.9 - 1.29 × Risk-Free Rate

14.85 = 17.981 - 1.29 × Risk-Free Rate

1.29 × Risk-Free Rate = 17.981 - 14.85

1.29 × Risk-Free Rate = 3.131

Risk-Free Rate = 3.131 ÷ 1.29

Risk-Free Rate ≈ 2.43 percent

Therefore, the correct answer is B. 2.36 percent.